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International comparisons of funding

Posted by Andreas SchleicherOn 1 February 2016

Skills have become the currency of 21st century economies and, despite the significant increase the UK has seen in university graduates over the last decade, the earnings of workers with a university degree remain over 80% higher than those of workers who just completed school with 5 good GCSE’s or an equivalent vocational qualification. Sure, not every university graduate will end up with a great salary, but on average they take an additional 160,000 pound home over their working life, and that's even after discounting for tuition, forgone earnings, and the higher tax bill that comes with a better salary.

That brings up the question of who should pay for all this, because there simply is no free university education.

The Nordic countries pay for universities through the public purse and even subsidise the living costs of university students. It makes sense for them because participation is almost universal and they have a steeply progressive tax system so that they can recuperate the funds from graduates who typically end up as the better earners.

European countries like France, Germany or Spain, too, say higher education is important, but their governments are neither willing to put in the required funds nor do they allow universities to charge tuition. They end up compromising quality and restricting access, with the effect that all citizens end up paying for the university education of the rich parents’ children.

The third alternative is to allow universities to charge tuition, but getting that right is not simple either. If countries put the burden for tuition entirely on the shoulders of families, they risk that they don't get the brightest but the wealthiest children to attend, which means not making the most out of a country’s talent.

If countries rely mainly on commercial loans which students have to repay once they finish their studies, they still leave students and families with the risk, because the promise of greater lifetime earnings of graduates is a statistical one, and there is actually very wide dispersion in earnings. The UK, and some other countries too, have tried to square that circle with a combination of income-contingent loans and means-tested grants. That basically means risk-free access to financing for prospective students with governments leveraging, but not paying, for the costs.

The loans reduce the liquidity constraints faced by individuals at the time of study while the income-contingent nature of the loans system addresses the risk and uncertainty faced by individuals (insurance against inability to repay) and improve the progressiveness of the overall system (lower public subsidy for graduates with higher private returns). In the UK, the repayments of graduates correspond to a proportion of their earnings and low earners make low or no repayments and graduates with low lifetime earnings end up not repaying their loans in full.

But even the best loan system is often not sufficient. There is ample evidence that youth from low income families or from families with poorly educated parents, but also youth who just don't have good information on the benefits of tertiary education, underestimate the net benefits of tertiary education. That’s why it has paid off for the UK to complement the loan scheme with means-tested grants or tuition waivers for vulnerable groups.

To some that sounds too good to be true. But OECD data show that there is indeed no cross-country relationship between the level of tuition countries charge and the participation of disadvantaged youth in tertiary education. In other words, social mobility is no worse in countries with tuition than it is in those countries that pay for university through the public purse.

Sure, those loan and grant systems cost money, but these costs are just a tiny fraction of the added fiscal income due to better educated individuals paying higher taxes.

Some still say that the trends are all futures of the past and that the job prospects of future graduates may look much worse. But those people have been saying the same thing since I have been tracking those numbers over a decade ago, and the bottom line is that the rise in knowledge workers has not led to a decline in their pay, as we have seen for people at the lower end of the skills spectrum.

There is no doubt that the UK’s approach to university financing has shifted risks to government, which will end up paying for any bad debt. But keep in mind that the added tax income of those graduates who end up in employment, on average over 80,000 pound in the UK, is many times larger than any conceivable bad debt. That's why everyone wins and that’s why the UK still has the most scalable and sustainable approach to university finance.